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JapanWednesday, July 25

Learning From the Past: Minimizing the Impact of Japan’s Next Consumption Tax Hike

- Reiko Sakurai
NHK World Senior Economic Correspondent

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The Japanese government is planning to raise the consumption tax from 8 percent to 10 percent in October 2019. The tax hike is aimed at restoring fiscal health and securing fund for the ballooning social security expenses in the graying society.

But a higher tax will most likely dampen consumer spending. Government officials are trying to draw up a plan by the end of this year to minimize its impact on the economy.

Lessons from the last tax increase

The focus is on whether the government can implement the lessons learned in 2014, when the consumption tax was raised from 5 percent to 8 percent. Government officials believe the measures taken 4 years ago were a failure.

Consumers went on a huge buying spree ahead of the tax increase. But spending fell by 3 percent afterward. It took 3 years to put the economy back on track. That’s why officials are keen to level last-minute demand and its impact as much as possible.

That doesn’t mean that government officials were standing idle 4 years ago. In fact, they launched a stimulus package worth nearly US$50 billion, which was equal to 2 percent of the consumption tax revenue, in an effort to avoid the economy from cooling down. But most of the money was used to fund corporate tax cuts and public works projects, making it difficult for consumers to feel its benefits. This time, the government plans to implement measures that directly target households.

Measures being considered

The government is scheduled to come up with a set of measures by the year end. One of the measures that is being considered is the expansion of tax breaks for home buyers. This is to ensure consumers that they will not be paying significantly more for their homes even after the consumption tax is raised. A similar measure is also being considered for car buyers.

Such measures were implemented 4 years ago, but on a smaller scale. Government officials hope to implement a more effective plan this time.

Another measure that will certainly benefit households is the reduced tax rate for foodstuffs. The rate will be raised to 10 percent for alcoholic beverages and dining out. But it will be kept at 8 percent for fresh and processed foods, including take-out lunch boxes and home delivery pizzas.

Tax charge reimbursement campaigns

One of the controversial measures under consideration is allowing retailers to hold sales campaigns that will offset the tax hike. Under the current law, retailers are banned from carrying out such campaigns. The legislation was put in place before the last consumption tax increase in 2014. It was enacted on concerns that consumers would be exempted from paying the increase in tax, and that suppliers would be forced to shoulder the burden of those price reductions.

But government officials are now considering lifting the ban. It reflects their determination to do all they can to avoid a downturn. Not surprisingly, some businesses are voicing strong opposition, saying the win-by-losing strategy may be possible for big retailers, but not for smaller ones. They also note that major supermarkets and department stores may force suppliers to shoulder the cost of the price reductions.

Avoiding excessive handouts

An important fact we need to keep in mind is the difference between the consumption tax hike four years ago and the one scheduled for next year.

Half the revenue from the upcoming tax hike is already earmarked for providing children with free education and improving wages of staff at nursery schools and elderly care facilities. The government pledges to start providing free preschool education as soon as the consumption tax rate goes up from 8 to 10 percent.

The Bank of Japan forecasts that the net increase in tax payers' burden will be around 2.2 trillion yen, or about US$20 billion. This is estimated to be about one quarter of the 8 trillion yen burden in 2014.

While it is essential to avoid an economic downturn, there may be no need to give out excessive subsidies and financial assistance.

Earlier this month, Cabinet members agreed to include measures to minimize the impact of the consumption tax hike in the initial fiscal 2019 budget. Officials note these measures will be isolated from efforts to cut expenditures, drawing concerns that they will lead to excessive subsidies or approving budgets with virtually no ceiling. It is important to keep in mind that the original purpose of tax hike was to restore fiscal health.

Another consumption tax hike means an effective reduction of net income or purchasing power. It's the slow growth of household income that is keeping consumers from spending more. Businesses should continue increasing wages so as to help boost household income to create a virtuous economic cycle.